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Capital Openness and Financial Crises: A Financial Contagion Model with Multiple Equilibria

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  • Juan Luo
  • Wenjin Tang

Abstract

This paper explores the effects of capital openness on financial crises and contagion. In the model, we analyze four channels of contagion involved in the process of financial crisis: monsoon effects, spillovers, self‐fulfilling expectations and new information. We empirically test the data from China, an economy with capital account controls, and find that the fundamentals of China (PRC) are now in a vulnerable area which yields multiple equilibria. Consequently, the Chinese economy is easily affected via the channels discussed in this paper. Finally we suggest that the capital account of China should be opened gradually.

Suggested Citation

  • Juan Luo & Wenjin Tang, 2007. "Capital Openness and Financial Crises: A Financial Contagion Model with Multiple Equilibria," Journal of Economic Policy Reform, Taylor and Francis Journals, vol. 10(4), pages 283-296.
    • Handle: RePEc:taf:jecprf:v:10:y:2007:i:4:p:283-296
    DOI: 10.1080/17487870701551972
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    References listed on IDEAS

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    1. Paul R. Masson, 1999. "Multiple equilibria, contagion, and the emerging market crises," Proceedings, Federal Reserve Bank of San Francisco, issue Sep.
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    1. Dejan Eric & Ivan Stosic, 2012. "Development of European Financial System: Challenges for the Balkan Countries Integration Process," Book Chapters, in: Paulino Teixeira & António Portugal Duarte & Srdjan Redzepagic & Dejan Eric (ed.), European Integration Process in Western Balkan Countries, edition 1, volume 1, chapter 6, pages 114-143, Institute of Economic Sciences.
    2. Dejan Eric & Aleksandar Zdravkovic & Drasko Nikolic, 2009. "Influence of World Crisis on Western Balkans Countries – Undertaken Measures and Expected Effects," Book Chapters, in: Claude Berthomieu & Jean-Paul Guichard & Dejan Eric & Srdjan Redzepagic (ed.), Financial Systems Integration of Balkan Countries in the European Financial System: Impact of Global Crisis, edition 1, volume 1, chapter 3, pages 17-34, Institute of Economic Sciences.
    3. Aymen Ben Rejeb & Adel Boughrara, 2014. "The relationship between financial liberalization and stock market volatility: the mediating role of financial crises," Journal of Economic Policy Reform, Taylor & Francis Journals, vol. 17(1), pages 46-70, March.

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